In my tax and financial planning practice, I’ve fielded plenty of questions over the years regarding credit and how bankruptcy will affect your mortgage. Recently, I responded to an inquiry by a working retiree with part-time income and Social Security benefits wondering precisely how a bankruptcy may impact his chances to lower his monthly mortgage payments.
As I noted to him in my response on Investopedia, the effect of bankruptcy on your mortgage will depend on the lender. Most lenders which follow the rules established by FNMA or FHA and deal with the ‘secondary market’ for mortgages will alter terms if you file for a refinance. With a bankruptcy on your credit report, your options will be limited. In fact, it is more likely that you’ll only find options with higher mortgage interest rates to reflect the higher credit risk posed to the new lender.
Generally, the first thing that mortgage underwriters will look at is your credit report. And something as severe as filing for a personal bankruptcy will have a huge impact on lowering your credit risk score. How much of an impact? Well, you can try to model this with tools found on various websites. I recommend using the tools at CreditKarma.com which are free.
Alternatively, you could try to approach your mortgage servicing company to discuss a loan modification but bear in mind that they will likely go through the same process as a refinance.
It would be advisable to deal with a refinance or loan modification prior to a bankruptcy.
You may want to consider another alternative. A Reverse Mortgage can be used to payoff your current outstanding mortgage and eliminate the need to make monthly principal and interest payments. If you didn’t have to make conventional mortgage payments, you’d likely find that your cash flow improves even on your small part-time income and Social Security.
Reverse Mortgages have improved with greater consumer protections and lower origination and servicing costs than before. They are backed by the government through the Federal Housing Administration (FHA). They are a great tool for many retirees that helps them make ends meet in retirement. Depending on your age, you’ll find that a lender will provide a line of credit equal to 55% to 75% of your home’s prevailing market value. This may be enough to get you out of your current mortgage balance.
For more information, I refer my clients to the resources available on the AARP website (http://www.aarp.org/money/credit-loans-debt/reverse_mortgages/)